The present invention relates to estate planning, and more particularly, to a method for minimizing tax liability with respect to the transfer of stock options from a holder of stock options to a family member of the holder.
Corporations are increasingly awarding their directors and key employees nonqualified stock options, which give the recipient the right to purchase stock at a predetermined exercise price. The right to purchase the stock may begin either immediately or after the end of a vesting period, and may end after periods of, for example, five or ten years. In 1996, a change in the securities law (Rule 16b-3 of the Securities and Exchange Commission regulations) eliminated a nontransferability requirement for options in order to qualify for the exemption from insider trading under that rule. Therefore, many corporations have recently allowed nonqualified stock options to be gifted by recipients to family members or to trusts for their family members"" benefit.
Income tax is incurred on the difference between the fair market value of the stock at the time of exercise of the options and the exercise price. Gift tax is incurred at the time the gift of the options is completed, and estate tax is incurred when options or the value realized from the exercise of the options held by a decedent are passed on to heirs or devisees. Estate planning is used to try to minimize the transfer tax liability on the transfer of assets from the option holder to a family member.
While known approaches to estate planning have had and will continue to have their benefits, they require substantial estate and gift taxes to be paid. For many holders of nonqualified stock options, estate and gift transfers are taxed at up to a 55% rate, and in some instances 60%, contributing to significant depletion of wealth. As the use of stock options in compensation has increased, the need for a method to address the transfer tax consequences has become more important.
The object of the present invention is to provide a means by which a holder of nonqualified stock options may transfer the value of the options to family members with minimum transfer tax liability.
According to the present invention, the holder (grantor) establishes a Grantor Retained Annuity Trust (GRAT) and transfers stock options and possibly other assets to the GRAT. The grantor retains a right to receive an annuity amount stated as a percentage of the initial transfer. The annuity payment comprises cash, stock options, or other assets. At the end of the GRAT""s term, the assets of the GRAT are distributed to one or more family member beneficiaries or a trust for the family member""s benefit. The taxes on the transfer of assets are minimized by (1) calculating an optimum annuity percentage to reduce the value of the taxable gift, and (2) minimizing estate taxes through use of the GRAT. The present invention also determines the length of the term of the GRAT, beginning and end of year asset value, and the form of payment of the annuity each year based on either estimated or actual input variables as selected by the user.
These and other objects, features, and advantages of the present invention will become more apparent in light of the following detailed description of a best mode embodiment thereof, as illustrated in the accompanying Drawings.